TSB Bank borrows its first wholesale money, may consider issuing covered bonds

By Gareth Vaughan

TSB Bank has tapped wholesale funding sources for the first time, raising just under NZ$40 million in 90 day money from institutional investors and its board may also consider issuing covered bonds.

Kevin Murphy, TSB's managing director, told interest.co.nz raising wholesale money was part of the Taranaki-based bank's plans to diversify funding sources.

"It's not something that we're going to do a significant amount of but we needed to test the water and see how much interest there was there for our paper and it was certainly well received," Murphy said.

The NZ$39.82 million in wholesale term deposits was raised through "one of the other financial institutions" which Murphy declined to name, from "a couple" of institutional lenders. There was opportunity to raise more wholesale funding but Murphy said TSB didn't need to at the moment as it was able to secure adequate funding from retail sources.

Retail funding had been going surprisingly well, Murphy added. TSB's December quarter General Disclosure Statement (GDS) shows retail term deposit funding rose by NZ$118 million in the three months to December 31 to NZ$2.1 billion.

Nonetheless Murphy said the term deposit market was difficult with lots of competition.

"The Reserve Bank changing the liquidity rules has forced all the players to be looking at how they fund their books and TSB has had to meet the market in terms of where the interest rate market is. And that has been competitive but we're more than holding our own," he said.

The liquidity changes Murphy refers to are the Reserve Bank's introduction of the core funding ratio (CFR). Introduced on April 1 last year, the CFR sets out that banks must secure 65% of their funding from retail deposits and wholesale sources with maturities of more than one year. The central bank aims to lift the CFR, designed to reduce New Zealand banks reliance on short-term offshore wholesale funding, to 75% during 2012.

Board to look into covered bonds

Murphy said covered bonds were also on TSB's radar screen.

"Covered bonds seem to be flavour of the month at the moment and that's something our board is interested in having a look at I guess at some point in time," said Murphy. "But at the moment there's no need for us to have a look at that market."

Covered bonds are senior debt instruments backed by a dedicated group of home loans known as a “cover pool” usually issued for five to 10 year terms. The way they're structured means if the issuing bank defaults, the assets in the cover pool are carved off - or ring fenced - from the issuer’s other assets solely for the benefit of the covered bondholders.

This ring fencing of a chunk of a bank’s balance sheet is why covered bonds have been banned by the Australian Prudential Regulation Authority as, in the event of a default by the bank issuer, depositors’ claims are diluted. However, The Australian government said in December it would change the law to allow banks to issue covered bonds. Here, the Reserve Bank has set an initial covered bond limit of 10% of the total assets of an issuing bank, with this limit calculated on the value of assets encumbered for the benefit of covered bondholders.

So far BNZ is the only New Zealand bank to have issued covered bonds, both domestically and in Europe, with Westpac delaying a planned 1 billion euros issue in Europe last week.

Customers deleverage

Meanwhile, TSB's total gross loans rose by NZ$35 million to NZ$2.58 billion in the December quarter with small rises in mortgage, business and farming lending. Murphy described the lending market as very tight with plenty of customers deleveraging.

"There is still a lot of debt repayment going on and with the farm payout forecast to be at the levels it's at, those in the rural sector are taking the opportunity to reduce debt where they can," Murphy said. "That's a prudent move."

"And of course we're seeing that in the residential sector as well where the householders are earning the same level of income but they're using that to repay debt. So the challenge for banks is to grab market share from one of our competitors because the market's not growing. We're having to be pretty smart out there with attractive rates, good products and of course good service."

TSB's mortgage lending rose by NZ$24.5 million in the three months to December to NZ$2.3 billion. Murphy said although there had been "a little bit of yield enhancement" as customers moved to floating mortgages from fixed-term ones, this was helping retain margins rather than allow TSB to increase them because "we're having to meet our competition on the other side of the ledger in terms of deposit funding."

About 60% of TSB's mortgage book is now on fixed-term rates and 40% floating. That's a swing from 80-20 within two years, said Murphy.

TSB's December quarter net profit after tax fell by NZ$1.9 million, or 16%, to NZ$10.36 million. The bank's total comprehensive income for the period, which includes hedging, rose by NZ$887,000, or 10%, to NZ$9.79 million.

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